Indonesia has officially downgraded the relationship, after Australia refused to apologise for espionage.

Abbott has refused to apologise for what he calls, 'reasonable' surveillance [AFP]

A spy scandal involving an Australian attempt to tap the phone of Indonesia's president has jeopardised crucial people smuggling and counter-terrorism co-operation between the two countries, officials have said.

President Susilo Bambang Yudhoyono has temporarily suspended co-coordinated military operations with Australia, including those which target people-smuggling, after significant public outcry in Indonesia over the reports.

"I find it personally hard to comprehend why the tapping was done. We are not in a cold war era," President Yudhoyono said.

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"I know Indonesians are upset and angry over what Australia has done to Indonesia. Our reactions will determine the future of the relationship and friendship between Indonesia and Australia - which actually have been going well."

Angry crowds mobbed Australia's embassy in Jakarta, burning Australian and American flags on Thursday. Indonesia has officially downgraded its relationship with Australia and recalled its ambassador from Canberra.

'Reasonable' surveillance

The country's prime minister, Tony Abbott, has refused to apologise for what he calls "reasonable" surveillance, but promised to respond to the president's request for an explanation "swiftly and courteously".

"I want to express ... my deep and sincere regret about the embarrassment to the president and to Indonesia that's been caused by recent media reporting," Abbott told parliament.

"As always, I am absolutely committed to building the closest possible relationship with Indonesia because that is overwhelmingly in the interests of both our countries."

I don't believe Australia should be expected to apologise for reasonable intelligence-gathering activities

Tony Abbott, Australian Prime Minister

The situation erupted after documents leaked by former US National Security Agency contractor Edward Snowden, showed Australia's Defence Signal's Directorate recorded personal communications of President Yudhoyono, his wife, Ani Yudhoyono, and senior officials in 2009.

The surveillance is understood to be part of a longstanding spying arrangement with the UK, USA, Canada and New Zealand, known as the "five eyes" intelligence partners.

"Importantly, in Australia's case, we use all our resources including information to help our friends and allies, not to harm them," Abbott said.

The document leaked by Snowden was dated November 2009 and was published jointly by Guardian Australia and the Australian Broadcasting Corporation state television network.

It details the attempted interception of various targets' mobile phones and lists their specific phone models with slides marked "top secret" and the Australian Signals Directorate's slogan: "Reveal their secrets, protect our own."

This leak came after previous documents released by Snowden revealed Australian embassies had participated in widespread US surveillance across Asia, including in Cambodia, China, Indonesia, Malaysia, Myanmar and Thailand.

Strained relations

The combined revelations have strained a bilateral relationship already under pressure over the Abbott government's hardline asylum seeker policy to "turn back" boats coming to Australia, a controversial and highly emotive issue in the country.

Professor Greg Fealy is an Indonesian politics specialist at the Australian National University. He told Al Jazeera the situation was becoming increasingly serious.

"Every new day brings new sanctions from the Indonesian side and so far the Abbott government hasn't responded well to it," Fealy said.

He believes relations between the two countries have not been this strained since the East Timor crisis in 1999, when Australia's military went into East Timor during its transition from an Indonesian territory to independence.

"It has the potential to get worse, with the Indonesians withdrawing further cooperation [with Australia] in many fields," Fealy said.

"If there is a sufficiently wide range of retaliation then this could possibly be worse than the crisis of 15 years ago."

Prime Minister Abbott has been encouraged to reassure President Yudhoyono that no further surveillance is taking place - similar to the conversation between US President Barack Obama and German Chancellor Angela Merkel after revelations her phone was also tapped.

John McCarthy, a former Australian ambassador to Indonesia, said Abbott must contact Yudhoyono to make amends.

"There is nothing, frankly, to prevent the prime minister saying to the president that it's not happening and it's not going to happen in the future. That's what Obama did with Angela Merkel and I don't see a problem with that," McCarthy said.

"It can't be allowed just to fester. If it festers it will get worse and it will be much harder to deal with, particularly as the politics get hotter in Indonesia."

US blame

Australian officials would also be expressing their frustration with the United States over this situation, according to Michael Wesley, professor of national security at the Australian National University.

"There are a number of reasons Australian officials can legitimately be very irritated with the Americans. We're in this mess because of an American security lapse," Wesley told Al Jazeera.

"I'm actually gobsmacked at both Snowden and Bradley Manning, at their ability to get highly classified documents and download them. It would be absolutely impossible for people of their level of access to do that in Australia."

"There should be real questions asked in the American intelligence community how this could have happened," Professor Wesley said.

Former NSA senior executive Thomas Drake said the "five eyes" utilise each other's services for information on other nations.

"Much of it is legit, but increasingly since 9/11 because of the sheer power of technology and access to the world's communication systems ... [agencies have] extraordinary access to even more data on just about anything and anybody," Drake told ABC.

Indonesia's minister for religious affairs, Suryadharma Ali, also cancelled a planned visit to Australia following the response from Yudhoyono.

Author and Indonesian political expert Professor Damien Kingsbury was due to host Ali at an event in Melbourne, and told Al Jazeera the snub was a concerning sign of the deterioration in relations.

"It is still quite significant that a senior minister felt he couldn't come to Australia at this time," Kingsbury said.

"We've seen the cancellation and suspension of a number of points of engagement and that has quite distinct implications for Australian government policy in some areas. There is the possibility this matter could continue to escalate if it's not adequately resolved," Kingsbury said.

'Uncomfortable'

The bilateral relationship between the two nations will be "uncomfortable" but it will pass, according to former US assistant secretary of state for East Asia, Kurt Campbell.

"The relationship will be strong again, but there is a ritual quality that I'm afraid you [Australia] will have to go through, and very little you can say now or do is going to ease the next couple of months," Campbell told ABC.

He said the practice of phone-tapping was an acceptable part of international relations.

"I can tell you that some of the most sensitive spying is done by allies and friends."

"Some of the most difficult foreign policy challenges - terrorist attacks - actually emanated in Indonesia. Australia has good cause to understand the delicate dynamics that play out behind the scenes with regard to how Indonesia's thinking about some of those movements and some of the actors inside its country," Campbell said.

Australian opposition leader Bill Shorten said the "vital" relationship between the two countries must be repaired.

"No-one should underestimate what is at stake in maintaining this critical relationship on the best possible terms.

"Co-operation between our countries is fundamental to our national interest - working together on people smuggling, terrorism, trade," Shorten wrote in an opinion piece for The Guardian.

Prime Minister Abbott is expected to respond to Indonesia's request for a full written explanation into the phone tapping in the coming days.

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